Three Years Later, NAFTA Proves the Naysayers Wrong

WASHINGTON —  Revelations and charges of drug corruption in Mexico’s highest political circles are certain to energize and embolden opponents of the North American Free Trade Agreement. As such, NAFTA will again become a proxy for unease, whether it be engendered by the illicit-drug trade, technological advances, the growth of international trade and investment or the competitive power of traditional and emerging economies. But dumping on NAFTA will not alter these realities.

When it was under consideration for approval by the U.S. Congress in 1993, NAFTA stimulated more controversy than any other trade agreement of the past 50 years. The concerns focused on two themes: one, that U.S. companies would desert the United States in droves to exploit low-wage Mexican labor, and that the consequent imports would lead to job losses in the hundreds of thousands here; and two, this inrush of imports would result in a large U.S. trade deficit with Mexico, although the significance of this outcome was never made clear.

From the outset, the jobs issue as raised was implausible. Merchandise trade, either exports or imports, with Mexico is around 0.8% of U.S. gross domestic product and annual increases in such trade are less than 0.1% of GDP. Job creation does not depend on this trade; rather, it depends on growth within the U.S. economy. This has been evident during the years NAFTA has been in effect, when about 2.5 million jobs were created each year. By contrast, the number of job losses that can be traced directly to increased imports from Mexico and Canada during these three years is about 100,000, or about as many jobs as were added to the U.S. economy every two weeks.

Anyone who has watched how the bond and stock markets plummet when job creation exceeds estimates, or who has observed the fixation of the Federal Reserve on the inflationary risks of brisk job creation, knows that monetary policy is most concerned with the economy producing too many jobs, not too few.

Runaway investment also must be kept in perspective. Direct investment in U.S. plant and equipment now averages more than $1 trillion a year, compared with $3 billion of U.S. direct investment in Mexico in the high-water year.

There is an obsession among politicians, reflected in the media, with trade balances with specific countries. In true mercantilistic fashion, a trade surplus (more U.S. exports) is “good,” while a deficit (an excess of imports over exports) is “bad.” In these terms, NAFTA was “good” in 1994, when the United States had a modest trade surplus with Mexico, and “bad” in 1995 and 1996, when this turned into large U.S. trade deficits.

The United States is a global trader and must expect to have surpluses with some countries and deficits with others. As evident from recent trade with Mexico, the bilateral balance can shift from year to year, depending on the relative strengths of the two economies. Mexico was in depression in 1995, while the U.S. economy was growing. Consequently, the United States sucked in imports and Mexico could not afford as many imports as it could in 1994. The balance will change again. Beyond that, the trade surplus that is cited usually covers only merchandise and not services, which are about 20% the size of U.S. merchandise exports.

Concern over the temporary bilateral merchandise trade balance with Mexico is as phony a marker as a $3 bill. It omits a large portion of U.S. trade, the total picture of global trade and the circumstances for the shifting figures. The idea that a “positive” balance is favorable and a “negative” one disastrous should have gone out of fashion more than 200 years ago, when Adam Smith tore apart the mercantilist argument. It is a frailty of the political intellect that this relic remains part of the national debate.

Opponents of NAFTA do not deserve all the blame for focusing on the wrong issues. The Clinton administration made the same two arguments in reverse. They argued that U.S. bilateral trade surpluses would grow as Mexico hit its development stride and pulled in imports, and then devised a spurious equation that every extra $1 billion of exports created 20,000 new U.S. jobs. Merchandise exports to Mexico rose by $9 billion in 1994 and this was touted as creating 180,000 jobs. When U.S. exports to Mexico fell by $4 billion in 1995, the response of the opponents of the agreement was that this cost 80,000 jobs, plus an additional 240,000 job losses from the $12 billion rise in U.S. imports from Mexico. Never mind that the United States created jobs at a record pace that year and has continued to do so ever since.

NAFTA, however, has not brought only sweetness and light. The Mexican economy did collapse in 1995. Although this resulted from internal assassination horrors and macroeconomic policies unrelated to the provisions of NAFTA, the Mexican population is less well off today than it was before NAFTA. It is evident that the agreement cannot compensate for misguided domestic policies in Mexico or any of the three member countries.

For those who lost jobs due to increased imports from Mexico or investment there to take advantage of lower wages, job creation elsewhere in the U.S. economy may not alleviate the pain. In theory, if the U.S. economy, as a whole, gains from NAFTA, then the losers can be compensated with some of the increased income. In reality, however, there is little or no compensation. Specialization and economies of scale are “good” words for economists. They can spell the death knell, however, to those adjusted out of jobs. The United States has no effective system to deal with the hardships that accompany economic restructuring.

Globalization of the U.S. economy--the increase in direct investment by U.S. corporations and the growing importance of international trade--antedates NAFTA and will continue whether or not the agreement endures. The jeans company Guess? is moving some production from Los Angeles to Mexico, but can just as readily go to other locations. The U.S. tariff reductions under NAFTA are but a few percentage points, from an average U.S. import duty of about 4% to zero over a 10-year stretch. It is not NAFTA alone that is at issue, but rather how the United States responds to the changes taking place in domestic production and throughout the world economy.

NAFTA was designed to transform three countries separated by sovereign divisions into a single, large market. And it largely has. Total trade in North America has increased. Covering just Mexico and the United States, this amounted to $81.5 billion in 1993, the year before NAFTA, to $107 billion in 1995. The trade for just the first 10 months of 1996 was equal to that for the full year 1995. Trade between the two countries was increasing before NAFTA, but part of the subsequent increase can be tied to the agreement. Is the current preoccupation with drug corruption in Mexico worth losing this progress?*